Are smart contracts the next big thing in construction?

April 25, 2019

Smart Contracts and other new technologies bring the promise of smart construction. The construction industry, like many other industries, can benefit from the use of smart contracts which can bring about the automation of performance, enhanced accuracy, efficiencies in streamlining processes and cost-savings. This article outlines what smart contracts look like today, how they work, why they may be beneficial, and how they may be used in the construction industry.

Smart Contracts and other new technologies bring the promise of smart construction. The construction industry, like many other industries, can benefit from the use of smart contracts which can bring about the automation of performance, enhanced accuracy, efficiencies in streamlining processes and cost-savings. This article outlines what smart contracts look like today, how they work, why they may be beneficial, and how they may be used in the construction industry.

What is a smart contract?

A popular definition of a smart contract is: “a set of promises, including protocols within which the parties perform on the other promises.”1

Another way to conceptualize smart contracts is that they are programs (computer code) which can self-execute according to pre-defined terms, designed by the contracting parties, which utilize a distributive ledger technology.

In a legal sense, smart contracts may be enforceable in the same way that other “paper” contracts are. To be a legally binding contract, a smart contract will have to meet the elements that must be met to show that a contract has been formed.2 A smart contract can become a subset of a general agreement co-existing harmoniously or a smart contract may be entirely self-contained.

How do smart contracts work?

Smart contracts work by allowing users to design contracts that are automatically executed following a trigger event without having to rely on costly third-party monitoring and enforcement mechanisms.3 Smart contracts run on blockchain technology. Blockchain is software that employs a shared database architecture which can maintain multiple, identical copies of an auditable, up-to-date distributed digital record of transactions or data.4 Blockchain is the technology that underpins cryptocurrencies such as Bitcoin and Ethereum. The Ethereum platform is designed for smart contracts and has caught the interest of market leaders such as Microsoft, IBM, Samsung, UBS and Barclays.5

Benefits of a smart contract generally

Much of our current form of contracting starts with the premise that the other party may not be trustworthy. Contracting parties generally spend large amounts of time, energy and money thinking of the ways a party can breach their agreement. Smart contracts bring a level of certainty which reduces or eliminates the risk that contracting parties seek to protect themselves from and save time, energy and money in so doing. Essentially, smart contracts bring the possibility of reduced contract-executing risks by making the transfer of the relevant asset or instrument in question near-to-inevitable by virtue of automatic performance.6 Additionally, compared with existing methods of verifying and validating transactions by third parties, blockchain security measures make blockchain validation technologies more transparent and less prone to error.7

Despite the present automation of many activities, there are steps which still require human intervention and authorization, such as payment. Smart contracts can allow for further automation as they can manage financial interactions between machines, vehicles, humans, regulators, government, and financial service providers.8

Smart contracts in the construction industry

The factors that may trigger the execution of the smart contract in the construction industry can potentially include information supplied through a Building Information Modelling software. At its most basic, BIM allows the generation and management of digital 3D models of a construction project.9 A BIM model is intended to be far more complex than a CAD-based 3D model, enabling not only the graphical representation of construction drawings that were traditionally paper-based, but also the integration within the model of a variety of data from multiple sources.10 BIM can act as a central source of information of every aspect of the construction project – a contractor can verify in advance, for example, whether the owner has enough money in a project find, and thereby supply services without risk. Upon verification of the completion of such services the supplier can be paid automatically.

A smart contract can even include legislation as part of its infrastructure, lowering compliance costs. For example, provisions in the Construction Act of Ontario concerning prompt payment11 which come into force as of Oct. 1, 2019, could be codified into a smart contract allowing for and simplifying the execution of those provisions.

Challenges of smart contracts

One of the challenges to smart contracts is whether it is possible to codify all legal complexities in a form that allows for execution. Concepts such as good judgement or force majeure events may be difficult to codify.

Another challenge could be the question of jurisdiction. Blockchain technology exists on a network of computers with nodes and users typically based all over the world.12 Smart contracts may be an area ripe for the implementation of international treaties.

Concluding thoughts

Smart contracts are in the developmental stages. Efficiency, cost savings and the elimination of executing risks may drive the swift development of smart contracts in the construction industry and other industries. It may just be a question of initial upfront investment by innovators, contracting parties, the legal community and state entities to meet the challenges that innovation inevitably charges.